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Purchasing power parity: three stakes through the heart of the unit root null


  • Matthew Higgins
  • Egon Zakrajsek


We provide a comprehensive analysis of the purchasing power parity hypothesis, relying on a linear panel data framework. First, we consider two panel unit root tests, based on transformations of country-specific statistics, which allow for parameter heterogeneity across countries. Using GLS techniques, we modify the two tests to eliminate the upward size distortion induced by cross-sectional dependence among contemporaneous real exchange rate innovations. Second, we consider two tests based on a fixed-effects specification: these tests allow for cross-sectional dependence but impose parameter homogeneity. Three of the four tests provide emphatic support for real exchange rate stationary during the post-Bretton Woods era among relatively open economies. Monte Carlo experiments indicate that the three tests have considerable power against the unit root null. One test allowing parameter heterogeneity provides mixed support for stationarity, but has only limited power against the null.

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  • Matthew Higgins & Egon Zakrajsek, 2000. "Purchasing power parity: three stakes through the heart of the unit root null," Finance and Economics Discussion Series 2000-22, Board of Governors of the Federal Reserve System (U.S.).
  • Handle: RePEc:fip:fedgfe:2000-22

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    1. Ansgar Belke & Rainer Fehn, "undated". "Institutions and Structural Unemployment: Do Capital-Market Imperfections Matter?," German Working Papers in Law and Economics 2001-default/2001/1-1008, Berkeley Electronic Press.
    2. Maican, Florin G. & Sweeney, Richard J., 2013. "Real exchange rate adjustment in European transition countries," Journal of Banking & Finance, Elsevier, vol. 37(3), pages 907-926.
    3. Stacie Beck & Cagay Coskuner, 2007. "Tax Effects on the Real Exchange Rate," Review of International Economics, Wiley Blackwell, vol. 15(5), pages 854-868, November.
    4. Papell, David H., 2002. "The great appreciation, the great depreciation, and the purchasing power parity hypothesis," Journal of International Economics, Elsevier, vol. 57(1), pages 51-82, June.
    5. Baum, Christopher F. & Barkoulas, John T. & Caglayan, Mustafa, 2001. "Nonlinear adjustment to purchasing power parity in the post-Bretton Woods era," Journal of International Money and Finance, Elsevier, vol. 20(3), pages 379-399, June.
    6. Yihui Lan, 2001. "The Long-Run Value of Currencies: A Big Mac Perspective," Economics Discussion / Working Papers 01-17, The University of Western Australia, Department of Economics.
    7. Georgios Chortareas & George Kapetanios, 2013. "How Puzzling Is The Ppp Puzzle? An Alternative Half‐Life Measure Of Convergence To Ppp," Journal of Applied Econometrics, John Wiley & Sons, Ltd., vol. 28(3), pages 435-457, April.
    8. Alba, Joseph D. & Papell, David H., 2007. "Purchasing power parity and country characteristics: Evidence from panel data tests," Journal of Development Economics, Elsevier, vol. 83(1), pages 240-251, May.
    9. Jonathan McCarthy, 2007. "Pass-Through of Exchange Rates and Import Prices to Domestic Inflation in Some Industrialized Economies," Eastern Economic Journal, Eastern Economic Association, vol. 33(4), pages 511-537, Fall.
    10. Ansgar Belke & Jens Heine, 2006. "Specialisation patterns and the synchronicity of regional employment cycles in Europe," International Economics and Economic Policy, Springer, vol. 3(2), pages 91-104, November.
    11. Ansgar Belke & Rainer Fehn & Neil Foster, 2003. "Does Venture Capital Investment Spur Employment Growth?," CESifo Working Paper Series 930, CESifo Group Munich.
    12. Moon, H.R. & Perron, P., 2000. "The Seemingly Unrelated Dynamic Cointegration Regression Model and Testing for Purching Power Parity," Cahiers de recherche 2000-03, Centre interuniversitaire de recherche en économie quantitative, CIREQ.
    13. Christoph Fischer, 2006. "PPP: a disaggregated view," Applied Financial Economics, Taylor & Francis Journals, vol. 16(1-2), pages 93-108.
    14. Yihui Lan, 2001. "The Explosion of Purchasing Power Parity," Economics Discussion / Working Papers 01-22, The University of Western Australia, Department of Economics.
    15. Alan M. Taylor, 2002. "A Century Of Purchasing-Power Parity," The Review of Economics and Statistics, MIT Press, vol. 84(1), pages 139-150, February.
    16. Graham Elliott & Elena Pesavento, 2005. "Higher Power Tests for Bilateral Failure of PPP after 1973," Emory Economics 0502, Department of Economics, Emory University (Atlanta).
    17. Gilles Dufrenot & Laurent Mathieu & Valerie Mignon & Anne Peguin-Feissolle, 2006. "Persistent misalignments of the European exchange rates: some evidence from non-linear cointegration," Applied Economics, Taylor & Francis Journals, vol. 38(2), pages 203-229.
    18. Ekaterini Panopoulou & Dimitrios Malliaropulos & Theologos Pantelidis & Nikitas Pittis, 2006. "The Contribution of Growth and Interest Rate Differentials to the Persistence of Real Exchange Rates," Economics, Finance and Accounting Department Working Paper Series n1640306, Department of Economics, Finance and Accounting, National University of Ireland - Maynooth.
    19. Ansgar Belke & Jens Heine, 2007. "On the endogeneity of an exogenous OCA-criterion: specialisation and the correlation of regional business cycles in Europe," Empirica, Springer;Austrian Institute for Economic Research;Austrian Economic Association, vol. 34(1), pages 15-44, March.
    20. Seung Chan Ahn & Hyungsik Roger Moon, 2001. "Large-N and Large-T Properties of Panel Data Estimators and the Hausman Test," 10th International Conference on Panel Data, Berlin, July 5-6, 2002 A6-2, International Conferences on Panel Data.
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    22. Christoph Fischer & Daniel Porath, 2010. "A reappraisal of the evidence on PPP: a systematic investigation into MA roots in panel unit root tests and their implications," Empirical Economics, Springer, vol. 39(3), pages 767-792, December.
    23. Choi, Chi-Young, 2004. "Searching for evidence of long-run PPP from a post-Bretton Woods panel: separating the wheat from the chaff," Journal of International Money and Finance, Elsevier, vol. 23(7-8), pages 1159-1186.
    24. Haluk Erlat, 2009. "Persistence in Turkish Real Exchange Rates: Panel Approaches," FIW Working Paper series 029, FIW.
    25. Yihui Lan, 2003. "The Long-Term Behaviour of Exchange Rates, Part V: The Stationarity of Exchange Rates," Economics Discussion / Working Papers 03-09, The University of Western Australia, Department of Economics.

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    Purchasing power parity ; Foreign exchange;


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